The U.S. Treasury’s much-maligned Term Asset-Backed Securities Loan Facility (TALF) and its new “prequel,” the Public-Private Investment Program (PPIP) have been viewed by the markets and skeptical prospective participants as merely a price discovery mechanism which, with a lot of luck, might create a floor under toxic security prices.

Now, with markets showing signs of life, and relief from dreaded mark-to-market accounting rules passed yesterday (Thursday), the intended price discovery floor may actually become a foundation for climbing out of the credit crisis. But will it work?

How strong the foundation will be, on whose backs it will be built, who will be able to climb out of trouble as a result of the programs, and who will reap any potential windfall profits are all part of the ongoing dialogue surrounding the programs.

The TALF was conceived last November as a means to reinvigorate the securitization markets, which are an integral part of what is known as the shadow banking system. Consumer loans, for example, are packaged into securities and sold to investors. When investors buy these securities the money they pay for them goes back to the originators of the loans, who have new money to make more loans. The process is replayed over and over and the result is a massive revolving line of credit for borrowers seeking loans for cars, schools, mortgages, business loans, credit cards, etc. When the credit crisis hit, the music stopped and the securitization markets ground to a dead standstill.

Last year, according to the American Securitization Forum, the volume of loan securitization worldwide plummeted by $2.4 trillion from 2006 levels. The Forum, an industry trade group, estimates nearly half of all consumer loans depend on securitization.

The TALF is supposed to push banks and other finance companies to keep making new loans. To entice sidelined investors to buy these new securities, the government is offering buyerscheap financing and only requiring them to pay a small portion of the purchase price up front.

At the same time, the U.S. Federal Reserve and Treasury have been grappling with what to do about toxic assets on the balance sheets of banks, insurance companies, pension funds and other systemically important financial intermediaries. In order to reinvigorate last year’s Treasury plan, the original Troubled Asset Relief Program (TARP), conceived by former Treasury Secretary Henry Paulson, current Treasury Secretary Timothy F. Geithner wants the private sector to partner with the government to help remove toxic assets from exposed banks and financial intermediaries.

I’m calling this new PPIP, Public-Private Investment Program, a prequel because although it’s been recently trotted out, it is really the overarching idea that underlies the TALF. Just like the TALF, which provides private investors borrowed money from the Fed and Treasury to buy new consumer loan security pools, the idea of PPIP is that private investors are backed by the government with loans and leverage to buy toxic assets from banks. But, in a belated testament to the depth of our current problems, toxic assets may now include “legacy loans,” or existing loans and other underwater financial instruments clogging the balance sheets of lending and investing institutions.

Originally, the TALF and PPIP ideas were viewed as a means to get investors to actually bid on new securities and old toxic assets, thus providing a price discovery mechanism by which investors might have some measure of value to start trading these securities again.

But, while nothing was happening with PPIP or TALF programs, and not a single transaction took place, something else was happening in the markets and with investors. Perceptions began to change about the duration of the recession, the vast amount of stimulus being thrown at the world’s broken economies, and the trillions of dollars on the sidelines waiting for an opportunity to be put back to work. Although the current recession has definitely not reached bottom, and there will likely to be many more painful months ahead, markets are leading investors to revisit the potential effects of TALF and PPIPs.

The New York Federal Reserve Bank received nearly $5 billion in loan requests from investors interested in buying asset-backed securities, according to a March 19 report from MarketWatch.

Besides shifting perceptions, there’s the new concrete building block that investors are looking at. Under tremendous pressure, Financial Accounting Standards Board (FASB) voted yesterday to relax mark-to-market rules that force companies to take impairment charges on their “available-for-sale” investments. This was icing on the cake.

The magnatidude of this event cannot be understated. The ramifications it will have will bear directly on the Treasury’s PPIP, TALF and TARP operations and all the markets.

And while in the long run we need to return to mark-to-market, and we eventually will, in the near term, the relief it will provide devastated banks and other financial institutions and investment companies give the government more time to address and fix capital deficiencies, and give the Federal Deposit Insurance Corp. (FDIC) more time to better systematically close insolvent institutions.

If you’re wondering what this has to do with TALF and PPIP and building a foundation, it has everything to do with these programs:

First, appropriate controversy should exist and open dialogue should persist about who gets taxpayer loans and be allowed insane leverage to buy TALF and PPIP assets.

I, for one, don’t see how reliance on leveraged purchases with taxpayer money by the same private equity firms who bankrupted Linen N’ Things Center Inc., Mervyn’s, Chrysler LLC, and more than half of all the bankrupt companies listed by S&P in 2008, would create any comfort for taxpayers or investors. The same goes for the hedge funds that leveraged themselves, lost hundreds of billions of dollars and spread the plague of credit default swaps around the world.

What about average investors? Where are the advocates for household investors who should be calling for preferential tax treatment on any gains or losses and cheap government borrowing and non-recourse loans for the rest of us who would like to make some money off these PPIP and TALF programs, instead of watching all the advantages go to the good old boy network.

Just maybe, since the U.S. savings rate has gone from negative 0.7% to nearly 7%, which is being deposited in our banks, and since banks have access to relatively cheap TARP capital – and if they don’t have to mark down their impaired inventories any more –we’ve actually found a floor.

Now, if we have a floor, what will any additional buying power in the form of PPIP and TALF programs mean for existing assets? In my opinion, they will start to get bid up. The floor becomes a foundation and we have some breathing room to try and climb out of the hole we’re in. This is not the moment to cede to private equity firms and hedge funds the potential upside that exists with any recovery.

If we have established a floor and start to build a foundation, it doesn’t mean the work is over. We will need to make sure the foundation is broad and not reliant upon the same “too-big-to-fail” institutions, the same leveraged swashbuckling greedy usurpers, or the rotten pillars of government legislating a brighter future for their masters and themselves when they are done milking the hardworking and proud men and women of this great country.

However, a foundation could mean that the fear that massive Treasury debt will sink the dollar and ignite hellfire inflation may not be in our immediate future. And it just might mean that we won’t have to keep the printing presses rolling to further stimulate the economy, because change has already happened. America is on the move.

Shah Gilani is the Event Trading Specialist for Money Map Press. He provides specific trading recommendations in Capital Wave Forecast, where he predicts gigantic "waves" of money forming and shows you how to play them for the biggest gains. In Zenith Trading Circle Shah reveals the worst companies in the markets - right from his coveted Bankruptcy Almanac - and how readers can trade them over and over again for huge gains. He also writes our most talked-about publication, Wall Street Insights & Indictments, where he reveals how Wall Street's high-stakes game is really played.

These government programs are simply extending the time it will take for the inevitable to happen; allowing insolvency to be sheltered through fantasy accounting; and the needed price readjustments, which people are currently calling deflation, from taking place. These are all fancy systems being used to soften—and consequently draw out—required adjustments to the market.

All of the abuses and interventions of the past have finally caught up to us. And instead of letting everything play out, we've decided to intervene on a scale that will certainly destroy the US currency, and quite possibly, several others if our creditors continue propping up the dollar.

When a country's economic foundation is built on sand, trying to continue construction at a greater speed than the rate at which the edifice is sinking does not address the fundamental problem. In other words, a nation that is broke cannot simply create more assets out of thin air to conjure up more of what did not exist in the first place. Engineering another bubble for a bubble economy with lost bubble jobs will not solve our problems.

Like record and media companies that are facing paradigm shifts so great that they are unable to adjust quickly enough to become profitable, so is the US economy. Consequently, the system is trying to recreate the only thing it understands in the face of change to which it is unable to readily adapt.

Until the US economy has completely restructured itself, no government program, however well-intentioned and brilliantly constructed, will get us out of this mess. At best, the TALF and PPIP will hold up the sky while the nibbler and smarter find a way to reinvent themselves. But what about the liabilities with which these programs will saddle businesses of the future?

"And while in the long run we need to return to mark-to-market" sounds like the same argument the government is using to justify deficits that extend as far as the eye can see. When will we pay the piper? When will prices truly reflect actual risk? They won't if mark-to-market is no longer in effect.

Cheap loans and cheap financing got us into this situation in the first place. How will repeating the same mistakes get us out of this now? The market is telling us to get out of debt, yet we insist on trying to create more?

Savers are in for a very rude awakening, as the inflation being created right now will use the 7% they are saving to finance the profligacy of the past few decades. But even that won't be enough.

We've lived in a fantasy world for way too long. And the current solutions are preventing us from taking our medicine by creating more fantasy. When will we wake up to the unbelievably ugly reality that we are completely bankrupt, incapable of paying back any of the toxic debt currently on the books, or the additional debt that we insist on creating to refinance it?

What sort of real economist would suggest that Secretary Geithner's spending prorgrams would be a "stable foundation for economic recovery"? Where does Shah Gilani think the money is going to come from to support Geithner's securit loans and investment programs? The only source for these funds is the Fed's printing presses, which ultimately lead to the American taxpayer. It's no longer a question of "Is the American taxpayer willing to shoulder this burden." The question is becoming " Will the money ever be there at all?" No economy in the world can come up with the money to pay off these debts that Geither is piling up. As a writer for such a publication as Money Morning, Mr. Gilani should realize this.

1. The relaxing of "mark to market" accounting rules will definitely improve bank's balance sheets and make banks less fearful of making normally sensible loans; and

2. The establishment of a private-public securitization buyer of securitized debt will encourage the resumption of securitization activity, which is a perfectly defensible activity if done with honest "appraisals and evaluations" by responsible rating entities. The problem in the past was that rating agencies were not doing their job and still putting their stamp of approval on junk.

So I see thiese developments as positive improvement in the financial markets – I probably wouldn't call it a floor, however, just yet.

l saw this crash comming 3 years ago due to one word unsustainable and yet we havent actualy seen the real crash yet this market increase is faulse and being built up by the bilderburg group among others the quote has been made the people will be brought to there knees so thay have no choice but except one world currency /bank and goverment due november 09 to feb 2010 good luck you will need it all you economic slaves

America may be on the move, bit the good old boy network is who will benefit from the positive emotion of investors.
However, the little investors will be the ones killed by the "still unrepentant good ole boy network".
Nobody has yet paid for the greedy missteps that led to this mess.
I for one will have no part of the continuation of, "I'm gonna get me some because if I don't get me some others will get it instead of me", which is what the attitude of packaged "lier mortgages" sellers had when getting rich on products they KNEW would fail.
This floor is built on sand be careful. The tidal wave is yet to arrive. Watch for commercial mortgages to fail washing away this floor.

I went back to my Economics 101 text, Economics – An Introductory Analysis by Paul A. Samuelson, Fourth Edition, page 313. It said, "The Federal Reserve is a Central Bank. Like the Bank of England or the Bank of France, it is a bank for bankers." I reiterate, it is a "bank for bankers". The Federal Reserve is a bank that takes care of the needs of banks. The needs of banks take priority over the needs of tax payers.

Somehow, something is amiss here.

Who has oversight over the Federal Reserve and commercial banks? Where is accountability in this equation, responsible, prudent men running the banking system? If they fail to act prudently what agency controls their activities? Who do they answer to? Do they go on their merry old way repeating the same old mistakes?

So the accounting principle of "Lower of Cost or Market" appears to have been thrown out the window so that banks can continue reporting mortgage-backed insecurities, worth about 20 cents on the dollar in a real market, at about 97 cents on the dollar on their balance sheets. They actually believe that the market is going to magically recover and have real estate go for even more insane multiples of what it's really worth, and that people all over will be in the mood to pay far more than assets are worth. That's what I would call insanity!

When I first started reading Shah Gilani's commentary I was somewhat skeptical of his viewpoints, him having been an insider in the establishment, but I gradually came to appreciate his expertise and accepted his solutions as more viable than what was taking place.

With this piece however I have to agree with the majority of the previous posters, he really DOSEN'T get it. You can not solve a problem of excessive debt by creating even more!

The problem is not lack of credit, it is the fact that our money supply comes into existence as debt and the debt pyramid has become so large that like any pyramid scheme it eventually collapses of its own weight. What IS needed is a total restructuring of the system instead of simply extending the existing problems with the same old same old to DELAY the ultimate collapse of a badly flawed system.

It is high time that the powers that be ADMITTED that going off the gold standard to a 100% fiat system was a BIG mistake!

Trackbacks

[…] the economic calendar should give analysts more time to focus on the corporate reports and also to debate the merits of the new FASB mark-to-markets rules. While the news was initially extremely well-received, some feel that it contradicts the U.S. […]

[…] confines of their circumstances, they pretend to be pirates, princesses and Jedi knights. Now, with the relaxation of "mark to market" valuation rules announced by the accounting trade&#8217…, our bankrupt financial institutions can escape their own reality by pretending to be […]

[…] I expect the PPIP program to be a resounding success, as well, Since it not only provides huge subsidized financing from the government, it moves much of the credit risk in those positions to them. […]

Volatility can strike fear into the hearts of buy-and-hold investors. With the tactics in this report, you'll make some of the biggest gains of your life, all while the chaos spreads. Enter your email below to get the report.

Money Morning gives you access to a team of ten market experts with more than 250 years of combined investing experience – for free. Our experts – who have appeared on FOXBusiness, CNBC, NPR, and BloombergTV – deliver daily investing tips and stock picks, provide analysis with actions to take, and answer your biggest market questions. Our goal is to help our millions of e-newsletter subscribers and Moneymorning.com visitors become smarter, more confident investors.